economics (english) pdd

7/30/2019 Economics (English) PDD

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KENDRIYA VIDYALAYA SANGATHANJAIPUR REGION

MODULE

ECONOMICS CLASS: XII

2012-13


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ACKNOWLEDGEMENTS

CHIEFPATRON: Shri J.M. Rawat

DEPUTY COMMISSIONER

KENDRIYA VIDYALAYA SANGATHANJAIPUR REGION.

PATRON : Smt Santosh MirdhaASSISTANT COMMISSIONER

KENDRIYA VIDYALAYA SANGATHAN

JAIPUR REGION.

PATRON : Shri K.R. ChoyalASSISTANT COMMISSIONER


JAIPUR REGION.

PATRON : Shri (Dr.) R.K.AgarwalASSISTANT COMMISSIONER


JAIPUR REGION.

VENUE PRINCIPAL & : Shri R.P. Sharma

Course Director K.V. No.2 AFS Jodhpur

Asso. Course Director: Mr. V.K.CHOUDHARY

& Resource Person PRINCIPAL Gr.II K.V. KHAJUWALA

Resource Person: Sh. H.R. Choudhary (PGT Econ.)

K.V. No.2 AFS Jodhpur


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ForewardThis study/support material /module is the brain child of our Honourable Deputy

Commissioner Sir Shri J.M. Rawat who is the chief motivator & Principal force to

provide to the students of Economics Class XIIth a study material / Module to enable

them to understand the basic concepts of Micro and Macro Economics in a simple lucid

& easy way & to provide a subject mater which can corelate CBSE curriculum with

NCERT text book and recommended reference books without making it voluminous.

A four day workshop (23.08.2012 to 26.08.2012) of PGT Economics of Jaipur Region

was organised at K.V. No.2 AFS Jodhpur in order to implement the instruction

provided in the letter No F NO. A-10/KVII/AFS/JU/2012 Dated 26.08.2012 with theobjective of attaining zero failures in 2013 XIIth Board Examination in Economics

subject.

The participants of the workshop actively participated and discussed all issues of

concerns and also came to consensus over the solutions to the problem faced by them

which came in the way of achieving the target.

In order to enhance the PI some thought provoking HOTS was also prepared and whole

curriculum Class XIIth was discussed at length in order to rebrush, equipped and

enhance teaching skills.Beauty of the workshop has been that each teacher actively

contributed in ever discussion and have been ready to accept new ideas as well as feels

motivated to make the dream true of worthy Deputy Commissioner Sir of achieving the

target of zero failure. I extend my sincere thanks to Shri V.K. Choudhary Principal (Gr.

II) K.V. Khajuwala for healthy discussion and exposition of various subject topics

which were doubtful and confusing.

We express our deep sense of gratitude to our worthy Assistant Commissioner Mrs.

Santosh Mirdha who gave her blessings and inspired the participant to achieve the

target. We were highly motivated with the esteemed presence of Honourable Assistant

commissioner. (R.P.Sharma)

Course Director


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ECONOMICS

CLASS XII

PART A: INTRODUCTORY MICROECONOMICS

Units No. Marks

1. Introduction 04

2. Consumer Behaviour and Demand 18

3. Producer Behaviour and Supply 18

4. Forms of Market and Price Determination 10

5. Simple Application of Tools of Demand and Supply

PART B: INTRODUCTORY MACROECONOMICS

6. National Income and Related Aggregates 15

7. Money and Banking 08

8. Determination of Income and Employment 12

9. Government Budget and the Economy 08

10. Balance of Payments 07


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MICRO ECONOMICS

UNIT I INTRODUCTION

Economics: A science which studies the human behaviour as a relationship between

ends and scare means which have alternative uses.

Two Branches of Economics

Sr.

No.

Points of

difference

Micro Economics Macro Economics

1. Meaning It studies the

economic behaviour

of individual units ofthe economy

It studies economic

behaviour of aggregates of

the economy as a whole.

2. Focus of Study Price determination,

consumer/Producer

Equilibrium

Determination of level of

national income and

employment

3. Instruments/tools Demand and supply Aggregate demand and

aggregate supply

4. Method of study Partial equilibrium

analysis

General equilibrium analysis

5. Example Individual demand,

Individual supply,

Price of a commodity

an equilibrium ofindustry, equilibrium

of a firm etc.

Aggregate demand aggregate

supply, national Income,

general price level total

investment etc.

Three Types of economy:

1. Market/capitalist economy: - In this type of Economy the factors of production

are owned and operated by individuals or group of individuals.

2. Main objective of production is self interest or profit maximization.3. Central problems are solved by price mechanism or market forces of demand &

supply.


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2. Planned/centrally planned/ socialistic economy

1. Factors of production are owned and operated by Govt.

2. Main objective of production is social welfare.

3. Central problems are solved by central planning authority.

3 Mixed Economy: -

1. The Economy in which factors of production are owned and operated by both

Govt. and private sector

2. Main objective is profit maximization(private sector) and social welfare(Gov.

sector)

3. Central problems are solved by central planning authority(in public sector)

and price mechanism (in private sector)

Scarcity of Resources:-

It implies that availability/supply of resources is less than their requirement/demand.

( D > S )

Economic Problem:

Main economic problem is how to allocate the scare resources so as to satisfy

maximum of our unlimited wants. Economic problem arise mainly because

human wants are unlimited and resources are limited and have alternative uses.

This creates the problem of choice.

Central Problems of an Economy

What to Produce How to produce For Whom to produce

Problem related to fuller & Problem related to Growth of Resources

Efficient utilization of Resource

1. What to produce: - An economy have unlimited wants and limited means

having alternative use. Economy cant produce all type of goods like consumer

goods, producer goods etc. So, Economy has to make a choice what type of

goods and services are to be produced and in what quantities.


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2 How to produce: - It is the problem of choice of technique of production. There

are two techniques of production.

(a)Labour Intensive Technique: - It is the technique of production when labour is

used more than capital.

(b)Capital Intensive Technique: - In this technique capital is used more than

Labour.

3 For whom to produce: - It is the problem related to distribution of produced

goods among the different group of the society.

It has two aspects:-

1. Personal distribution

2. Functional distribution

Personal distribution:- When the National Income is distributed according to the

ownership of the factors of production.

Functional distribution: - When the national Income/Production is distributed among

different factors of production like Land, Labour, capital and Entrepreneurship for

providing their service in term of rent, wages, interest and profit respectively.

4 Problem related to the efficient use and fuller utilization of resources

Efficiency of production means the maximum possible amounts of goods and services

are being produced with available resources. The resources are already scare in relation

to the need for them and therefore an economy has to ensure that its resources do not

remain underutilized their under employment is nothing but wastage of resources.

Fuller utilization of resources

P1Y

P QR

Under utilization of Resources (Unemployment)

Wheat Growth of Resources

. S

Cloth


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5. Problem related to Growth of Resources

It is related to increase in the production capacity of the economy so that the quantity of

production will rise.

Production Possibility Curve/ Transformation Curve/Production Frontier Curve

Meaning: - The curve which shows the various alternative production combinations of

two goods that can be produced with given resources and technology when resources

are fully and efficiently utilized.

Combination Cloth Wheat

A 0 15

B 1 14

C 2 12

D 3 9

E 4 5

F 5 0

Features of PPC:-

1. It is concave to origin because of increasing marginal opportunity cost.

2. If the marginal opportunity cost is constant than PPC will be a straight line and

3. If MOC is decreasing than PPC will be convex to origin.

P1

YP

Under utilization of Resources (Unemployment)

Wheat Growth of Resources or Technological Improvement

PPC Curve

Cloth

Opportunity costIt is the cost of next best alternative foregone.


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Marginal Opportunity Cost/Marginal Rate of Transformation

It is the amount of a good (good Y) sacrificed for the production of an additional

unit of other good (good X)

Questions for revision

1.Define scarcity.

Ans : - Scarcity means shortage of resources in relation to their demand is called

scarcity.

2. What is an economy?

Ans : - An economy is a system by which people get their living.

3. Define central problem.

Ans : - Central problem is concerned with the problems of choice (or) the problem

of resource allocation.

4. Give one reason which gives rise to economic problems?

Ans : - Scarcity of resources which have alternative uses.

5.Name the three central problems of an economy.

Ans : - i) What to produce?

ii) How to produce?

iii) For whom to produce?

6. What is opportunity cost?

Ans: - It is the cost of next best alternative foregone.

7. Why is there a need for economizing of resources?

Ans: - Resources are scarce in comparison to their demand, therefore it is necessary

to use resources in the best possible manner without wasting it.

8. What is production possibility frontier?

Ans: - It is a boundary line which shows the various combinations of two goods

which can be produced with the help of given resources and technology.

9. Why PPC is concave to the origin?


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Ans :- PPC is concave to the origin because of increased marginal opportunity

cost.

10. Define marginal rate of transformation.

Ans :- MRT is the ratio of units of one good sacrificed to produce one more unit ofother goods. MRT = y / x

11. What does a point inside the PPC indicate?

Ans :- Any point inside the production possibility curve indicate underutilization of

resources.

HOTS

1. Does massive unemployment shift the PPC to the left?

Ans:- Massive unemployment will shift the PPC to the left because labour force

remains underutilized. The economy will produce inside the PPC indicating

underutilization of resources.

2. What does the slope of PPC show?

Ans. The slope of PPC indicates the increasing marginal opportunity cost.

3. From the following PP schedule calculate MRT of good x.

Production possibilities A B C D E

Production of good x units 0 1 2 3 4

Production of good y units 14 13 11 8 4

Production of

good X units

Production of good

Y units

MRT = y / x

0 14 -

1 13 1:1

2 11 2:1

3 8 3:1

4 4 4:1


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UTILITY ANALYSIS

UTILITY

Meaning: - It may be defined as the process of commodity or service to satisfy human

wants.

Utility may be Cardinal or Ordinal

Cardinal Utility:- It means that utility can be measured with the utils. but it converted

to the price.

Ordinal Utility:- It means that utility can be ranked according to the preferences of the

individuals.

Two concepts of utility (i) Total utility (ii) Marginal Utility

Total Utility: - Total amount of satisfaction obtained from consuming various units of

commodity

TU= MU

Marginal Utility: - Change in total utility from the consumption of one additional unit

of goods.

MU= TUnTU n-1

OR

MU = TUQ

TUn = Total Utility of n units

TU n-1= Total Utility of n-1 units

Q = Change in Quantity

TU = Change in Total Utility

Relationship between M.U. & T.U.


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Table

1. When T.U. Increases with diminishing rate, M.U. declines.

2. When T.U. is maximum, M.U. is zero

3. When T.U. declines, M.U. is negative.

The Law of Diminishing Marginal Utility.

Definition: - When a consumer consumes more and more units of commodity marginal

utility from it goes on diminishing.

-4

-2

0

2

4

6

8

1 2 3 4 5

Utility

Diagram and table shown that as we consume additional units at a good, M.U. from

them goes on diminishing.

Consumer Equilibrium: A consumer is in equilibrium when he gets maximum

satisfaction out of his limited Income and he has not tendency to shift from this

situation till circumstances unchanged.Consumer Equilibrium with Single Commodity

Units ofcommodityice-cream

M.U. T.U.

1 6 6

2 4 10

3 2 12

4 0 12

5 -2 10

Units M.U.

1 6

2 4

3 2

4 0

5 -2

T.U.


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Marginalutility

When a consumer purchases a single commodity, his behavior is guided by the Law

of Diminishing Marginal Utility. He will try to consume the Commodity up to the point

where marginal utility is just equal to its price.

MUx = Px

0

5

10

15

20

25

30

1 2 3 4 5 6

Px

MUx=Px

Above diagram and table shows equilibrium at point E. where MU= Price. Here

Consumer consumes four units of goods.

Indifference Curve Analysis

Meaning: - Indifference Curve shows the different combinations between two

commodities in which consumers get equal satisfaction

In the table and diagram shows that consumer is indifferent between five combination

of goods x and y.

MRS- Marginal Rate of substation:-

Unit

X

M.U.x Px

1 24 12

2 20 12

3 16 12

4 12 12 MUx=Px

5 8 12

6 4 12

Unit of

Combination

Good

X

Good

Y

MRS

A 1 12 -

B 2 8 1:4

C 3 5 1:3

D 4 3 1:2

E 5 2 1:1

E


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The rate of substitution of one commodity for another is known as M.R.S.

MRSy = YX

Assumptions of IC:-

1. The consumer is rational.

2. Consumer has monotonic preferences.

3. Price of goods and Income of the Consumer are given.

4. There is no change in the taste and preference of consumer.

Properties of Indifference Curve:-

1. An indifference curve always slopes downward from left to right. If a consumer

increases one unit of a particular commodity other one has to be decreased.

2. Indifference Curve are Convex to the origin:-

Because diminishing Marginal rate of Substitution.

3. Indifference Curves never intersect each other:-

Each IC has its own level of satisfaction.

4. Higher Indifference Curves represent higher level of satisfaction.

Budget Set: - A budget set is collection of all bundles available to a consumer at

prevailing market price, with his Income.

Budget Line: - A budget line represents all bundles which a consumer can actually buy

with his Income at prevailing market price.

If there are two goods- good1 and good 2 than

P1X1+P2X2 = M P1 = Price of good-I

X1 = Unit of good-IP2 = Price of good 2

X2 = Unit of good 2

PX = Rs. 20 Income= Rs. 100

Py = Rs. 25

Budget Equation

P1X1 + P2X2 = Income

(20X5) + (25X0) = 100

(20X0) + (25X4) = 100


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Budget line is also known as Price line, or Market offer line/curve

Budget line changes (Rotates) due to following reasons:-

When change in Price of a Single good.

a) When change in price of Y good (Good 2)

X

B

P

Good Y A

P

Good X

Budget line rotates to the left (P-A) when Price of Good Y Increase.

Budget line rotates to the right (P-B), when Price of Good Y Decreases.

b) When change in Income of Consumer than Budget line shift right or left .

(1)Ex. If income of Consumer Increases, Budget line Shift rightward.

Good Y

Good X

Consumers Equilibrium

A consumer will be in equilibrium where he can maximize his satisfaction, subject to

his budget constraint.

There are two conditions for consumer equilibrium.

1. Budget line should be tangent to indifference Curve.

MRS xy = PxPy

Or

Slope of IC and budget line are equal to each other.

2. Indifference Curve should be Convex to the Point of origin at equilibrium Point.


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Y

X

Go

od-Y

Good - X

PK

R

TIC1

IC2

IC3

Here P is MRSxy > Px / Py

Here R is the equilibrium Point

where both the condition are fulfilled.

Here T is MRSxy < Px / Py

Question for Practice

Q.1 Define Total Utility (TU)

Q.2 Define Marginal Utility (MU)

Q.3 How is T.U. derived from Marginal Utilities?

Q.4 State Law of Diminishing Marginal Utility?

Q.5 What is Consumers Equilibrium?

Q.6 State conditions of Consumers Equilibrium?

Q.7 Define Indifference Curve?

Q.8 What is meant by marginal rate of substitution (MRS)?

Q.9 What do you mean by the budget set?

Q.10 What is budget line?

Q.11 What do you mean by monotonic preference?

Q.12 If a Consume has monotonic preference, can lie is indifference between the

bundle (10, 8) and (8, 6)Ans. No, he prefer (10, 8) to (8, 6)

Q.13 Explain Consumers Equilibrium through utility schedule in case of single

commodity?

Q.14 A Consumer is in equilibrium where indifference curve equal budget line?

(False / True)

Q.15 A Consumer is in equilibrium where he earns maximum profit.

(False / True)


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Demand

Meaning of Demand: Demand of commodity refers to the quantity of a commodity

which a consumer is willing to buy at a given price, and time.

Market Demand: Market Demand refers to the sum total of the quantities demanded

by all the individual households in the market at various prices in given time.

Demand Function: Demand Function is the functional relationship between demand

and factors affecting demand.

Dx = f (Px, Po, Y, T, E)

Factors affecting Demand:- Following are the factors which affect the Demand.

1. Price of Commodity: When the price of commodity rises demand of commodity

will decrease and vice-versa.

2. Price of other related commodity: Price of other commodity affect the demand

of commodity in two ways:

a) Substitute Goods:- In the case of substitute goods, the demand for a commodity

X rises with a rise in the Price of commodity Y and vice versa.

Example- Tea and coffee

b) Complementary Goods:- In case of complementary goods, the demand for a

commodity X rises with the fall in the Price of commodity Y and vice versa.

Example: Car and Petrol, Ink and Pen,

3. Income of Consumer: - When the Income of Consumer rises the demand of

normal goods increases and if the income decreases the demand of normal good

decreases.

In case of Inferior good the demand will decrease with rise in income and

increase with decrease in income.

4. Taste and Preference: - If the taste and preference of consumer develop for a

commodity the demand will rise.


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Y

Price

XO Demand

D

D

Q1

P1

Q

P

Q2

P2

5. Expectation: - If the consumer expects that price in future will rise the demand

will rise and vice-versa

6. Population: - More population, more demand, less population less demand.

7. Climate: - The demand of commodity changes according to the climate.

Law of Demand: - Other things being equal, the demand for a good rises with a

decrease in price and decreases with increase in price.

Explanation

The table shows when price decreases the demand increases. Demand curve DD shows

more quantity (OQ1) and lower Price (OP1)

Inferior Goods: - These are the goods for which demand rises with decreases in

income of consumer. In other words income effect is negative.

Giffen Goods: - Those inferior goods whose income effect is negative but price effect

is positive.

Change in Quantity demanded: - It is also called movement along a demand curve.

Due to change in its own price, quantity of commodity changes. There are two type of

change in quantity of Demand (a) Extension in Demand

(b) Contraction in Demand.

Change in Demand: - It is also called shift in demand curve. When quantity of

commodity change due to change in factor other than price. It has two types-

a) Increase in Demand b) Decrease in Demand

Px Qx

10 100

9 150

8 200


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Y

Price

XO QD

D

D

(A)Expansion of

Demand

Contractionof Demand

10

3

20

2

30

1

Y

XO

Price

Q.D.

Px

D2

D

D1

D2

D1 Increase in dddecrease in dd.

Change in Quantity Demanded Change in Demand

Diagram

Elasticity of Demand: - The elasticity of demand measures the responsiveness of the

quantity demanded due to change in price of the commodity.

Measurement of elasticity of demand:-

Total Expenditure Method/Total outlay method

(i) If no change in total expenditure as change in price than Ed=1

(ii) If total expenditure and price changes in opposite direction Ed>1

(iii) If total expenditure and price changes in same direction Ed


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Geometric Method/ Point Elasticity Method

If elasticity of demand is to be measured on the point of demand curve following

formula is to be used

ed = Lowe segment from the point

Upper segment from the point

ed= cb

ca

Factors effecting elasticity of Demand:-

1. Nature of Goods: - The elasticity of demand is of necessary goods is less than

one Ed1. The

elasticity of demand of comfort goods is equals to one ed=1

2. Availability of Substitutes:- If the substitutes of goods are available than

elasticity of demand is high or elastic demand ed>1 and if the substitutes are not

available than demand is in elastic ed1 like milk and if the number of uses of commodity is less than

demand of commodity is in elastic ed


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6. Habit of consumer:- If consumer is habitual for the consumption of

commodity, than the demand will be inelastic ed


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Price

e % change in price


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HOTS

1. Is the demand for the following elastic, moderate elastic, highly elastic? Givereasons.

(i)Demand for petrol

(ii)Demand for text books

(iii) Demand for cars

(iv) Demand for milk

Ans :- i) Demand for petrol is moderately elastic , because when the price of the

petrol goes up , the consumer will reduce the use of it.

ii) Demand for text books is completely inelastic. In case of text books, even a

substantial change in price leaves the demand unaffected.

iii) Demand for cars is elastic. It is a luxury good, when the price of the car rises,

the demand for the car comes down.

iv) Demand for milk is elastic, because price of the milk increases then the

consumer purchase less quantity milk.

2. Explain the various degrees of price elasticity of demand with the help of

diagrams.

Ans:- There are five degrees of price elasticity of demand. They are,

a) Perfectly elastic demand (Ed=):- a slight or no change in the price leads to

infinite changes in the quantity demanded.

b) Perfectly Inelastic demand (Ed=0) :- Demand of a commodity does not

change at all irrespective of any change in its price.

X

Price

Flatter DemandCurve

Quantity

E>1

D

O


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c) Unitary elastic demand (Ed=1):- When the percentage change in demand

(%) of a commodity is equal to the percentage change in price.

d) Greater than unitary elastic demand (Ed>1):- When percentage change in

demand of a commodity is more than the percentage change in its price.

e) Less than unitary elastic demand (Ed


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Unit III

Production Function

Production Function: - It is defined as the functional relationship between input and

output for a given state of technique.

Q= f (L, K.)

Total Product:- The total quantity of goods produced by a firm during a given period

of time with given inputs. TP=MP

Average Product:- The output per unit variable input. AP=TP/Q

Marginal Product:- The change in total output by using one more unit of variable

factor .

MPn = TPnTP n-1 MP =

Return to a factor: - It is operated in short run period. If some factors are constant and

by increasing the quantity of variable factor resulting output is affected. The effect on

output is called returns to factor.

Law of variable proportion: this law state that as we increase the quantity of only oneinput keeping other input constant initially MP increases than decreases and ultimately

become negative.

Land Labour TP MP Stage

1 1 2 2 I

1 2 5 3 I

1 3 9 4 I1 4 12 3 II

1 5 14 2 II

1 6 15 1 II

1 7 15 0 II

1 8 14 -1 III

1 9 12 -2 III


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Digram

Units of variable factor

In stage I TP increases between O to M at an increasing rate and M P increase

In stage II, TP continues to increases at a diminishing rate and reaches the maximum at

T, MP continues to decreases and become zero

In stage III, TP begins to fall, MP is negative, Causes of Application of the Law of

Variable Proportions.

1. Indivisibility of factors.

2. Division of Labour and specialization.

3. More than optimum use of the fixed factors.

4. Imperfect substitutes.

Relationship between TP and MP Curves:

1. MP curve is the slope of TP curve at each point.

2. When TP increases at an increasing rate, MP increases.

3. When TP increases at a diminishing rate, MP decreases.

4. When TP is maximum MP is zero.

5. When TP decrease, MP is negative.

Relationship between AP and MP1. When MP>AP, AP increases

2. When MP = AP, AP is maximum

X

X

O

Y

1st

3rd

MPP

2nd

MT

O


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3. When MP


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Cost

Output

TC TVC

Cost concept

Cost:- The expenditure incurred on various inputs is known as the cost of production.

Types of Cost

1. Money Cost:- Total money expenses by a firm for producing a commodity.

2. Explicit Cost and Implicit Cost:- Actual payment made to outsiders is Explicit

Cost.

Cost of self-supplied factors in implicit cost.

3. Real Cost:- All the pain, sacrifices, discomforts involved in producing factor

services to produce commodity.

4. Opportunity Cost: - It is the cost of next best alternative foregone.

5. Short Run Cost:-

I. Fixed Cost: - Cost of fixed factors.

II. Variable Cost: - Cost of variable factors

Diagram

Total Cost (TC) = Total expenditure incurred by a firm on the factors of

production.

TC = TFC + TVC

Relationship between TC, TFC, TVC

AC = TC MC = TC, MC= TCn- TCn-1

Q Q

Relationship between AC, MC & AVC


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Diagram

1. When MC is less than AC than AC tends to fall.

2. When MC is equal to AC than AC is minimum.

3. When MC is more than AC than AC tends to increase

HOTS

1. Why AFC curve never touches x axis though lies very close to x axis?

Ans :- Because TFC can never be zero.

2. Why AVC and AFC always lie below AC?

Ans:- AC is the summation of AVC & AFC so AC always lies above AVC & AFC.

3. Why TVC curve start from origin?

Ans:- TVC is zero at zero level of output.

4. When TVC is zero at zero level of output, what happens to TFC or Why TFC is not

zero at zero level of output?

Ans:- Fixed cost are to be incurred even at zero level of output.

HOTS1. Marginal cost includes both fixed cost and variable cost. Comment. 1 Mark

No, marginal cost is only variable cost; it does not include fixed cost. Because, marginal costis additional cost and additional cost cannot be fixed cost.

2. ATC must fall simply because AFC always falls. Comment.

No, it is not correct. ATC = AFC +AVC. Being a component of ATC, falling AFC impliesfalling ATC. But this is true only in the initial stages of production when average fixed cost isa significant component of AC. In the later stages of production, average fixed cost (becauseit is continuously falling) reduces to an insignificant component of AC. Accordingly AC tends

to rise in assonance with rising AVC, even when AFC tends to fall.

3. TC is not the sum total of marginal cost . Why?

MC is additional cost. Additional cost can only be variable cost. Accordingly sum total of


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marginal cost will be total variable cost, not total cost (which includes both variable cost andfixed cost).

(Here, MC = Marginal Cost, TVC = Total Variable Cost, TC = Total Cost.)

4. Complete the following table when fixed cost is Rs 100.Output(Units)

MarginalCost(Rs)

TotalCost(Rs)

AverageFixed Cost

(Rs)

AverageVariable Cost

(Rs)

0

1 100

2 60

3 40

4 205 60

6 100

4 Marks

Output(Units)

Marginal Cost(Rs)

Total FixedCost(Rs)

Total VariableCost(Rs)

Total Cost(Rs)

AverageFixed Cost

(Rs)

AverageVariable Cost

(Rs)

0 100 0 100 0

1 100 100 100 200 100 100

2 60 100 160 260 50 803 40 100 200 300 33.33 66.67

4 20 100 220 320 25 55

5 60 100 280 380 20 56

6 100 100 380 480 16.67 63.33

5. Explain the relation between AC and MC with the help of a diagram. 4 Marks

The relation between AC and MC is explained with the help of a diagram as under:

Observations:(i) When AC declines, MC declines faster than AC. So that MC curve remains below ACcurve. Implying that AC > MC. In the figure, AC curve is falling till point E and MC continuesto be lower than AC.


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(ii) When AC increases, MC increases faster than AC. So that MC curve is above the ACcurve. Implying that AC < MC. In the figure, AC start rising from point E and beyond E, MC ishigher than AC.(iii) MC curve cuts AC curve from its lowest point. When average curve is minimum then MC= AC. In the figure, MC curve is intersecting AC curve at its lowest or minimum point E.

Supply

Meaning of Supply: - Supply refers to quantity of a commodity that a firm is willing

and able to offer for sale, at each possible price during a given period of time.

Market Supply: - It refers to quantity of a commodity that all the firms are willing and

able to offer for sale at each possible price during a given period of time.

Factors affecting the Supply:

1. Price of Commodity: Higher the price of a commodity, larger is the quantity

supplied and vice-versa.

2. Technological Changes: Improved techniques reduce the cost of production and

increase the supply and vice versa.

2. Input Prices: A fall in prices of factors of production will increase the supply of

the commodity and vice-versa.

3. Goal of the firm: If the goal is profit maximization, more quantity will be

supplied at higher price. If the goal is sales maximization more will be supplied

at same price. If its aim is to minimize risk, less will be supplied.

4. Price of Related Goods: If price of a substitute goods increase, supply of the

commodity concerned will fall. If price of a complementary good increases,

supply of the commodity concerned increases.


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P0

A to B = Expansion of S

B to A = Contractor of S

P

B

A

q q2 0 q1

S

SS to SSincrease in SSS to S S

decrease in S

i i

i i ii ii

P

S

Sii

Sii

S1

S1

q0

5. Expectation about future prices: If there is an expectation of increase in price

of the commodity in future, supply will be less at present and vice-versa.

6. Government Policy: Imposition of taxes reduces supply and subsidy increases

supply.

7. Number of firm: The larger the number of firms, greater in the market supply

and vice-versa.

Change in quantity supply: - when

supply changes due to change in price of commodity. It is

called movement along supply curve.

a) Extension in supply: - When supply

increases due to increase in supply.

b) Contraction in supply: - When supply

decreases due to decrease in supply, is called contraction in supply.

Change in supply/Shift of supply curve: -

It occurs due to change in other factors affecting supply like

Technology, No. of Firms, etc.

a) Increase in supply: When more quantity is

supplied at same price.

b) Decrease in supply: When less quantity is

supplied on the same price is called

Decrease in supply.

Price Elasticity of Supply: - It measures the degree of responsiveness of the quantity

supplied of a commodity to a change in its price.

Measurement of Price Elasticity of Supply

1. Percentage Method


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es = Percentage Change in quantity suppliedPercentage change in Price

= Q X P ; Q = Chang in quantity suppliedP Q P = Chang in Price

2. Geometric Method

es = AB ; where A is the intercept of supplyOB curve with X-axis

Supply

1. Define supply

2. What causes a downward movement along a supply curve of a commodity?

3. What is meant by a change in supply?

4. What is the meaning of expansion of supply?

5. How does a change in price of the input effect the supply curve of a commodity?

6. When the supply of a commodity is called elastic?

7. List any three determinants of supply of a commodity?

REVENUE CONCEPT

Revenue: - Money receipt by a firm by selling a commodity.

Types of Revenue

1. Total Revenue (TR) = Total Revenue is total money receipt of a firm on account

of the total sale.

TR = Q X P


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2. Marginal Revenue (MR) = Marginal Revenue is the change in total revenue

as sale of one more unit of output.

MR = TR MR=TRn-TRn-1Q

3. Average Revenue (AR) = Average Revenue is the per unit revenue received

from sale of a commodity.

AR= TR/Q

Relationship between TR, MR in imperfect competition market.

1. When MR is O TR in maximum2. When MR Negative TR falls.

HOTS

1. Can MR be negative or zero.

Ans:- Yes, MR can be zero or negative.

Units sold

TR

Units sold

Revenue

MR

X

X

Y

O

AR


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2. If all units are sold at same price how will it affect AR and MR?

Ans:- AR and MR will be equal at levels of output

3. What is price line?

Ans:- Price line is nothing but AR line and is horizontal to X-axis in perfect

competition.

4. Can TR be a horizontal Straight line?

Ans:- Yes, when AR is zero.

5. What do you mean by revenue?

6. Explain the concept of revenue ( TR, AR and MR)

7. Define AR

8. Prove that AR = price

9. Prove that AR is nothing but demand curve

10.Explain the relationships between AR and MR when price is constant and when

price falls.

11.Explain the relationships between TR and MR when price is constant.

12.What is breakeven point? Explain with a diagram.

13.When the situation of shut down point arises for a firm?

14.What happens to TR when a) MR is increasing, b) decreasing but remains

positive and c) MR is negative?

Ans:- a) TR increases at an increasing rate.

b) TR increases at a diminishing rate.

c) TR decreases.

15.Why AR is more elastic in monopolistic competition than monopoly?Ans:- Monopolistic competition market has close substitutes. Monopoly market

does not have close substitutes.

16.Why TR is 45 0 angle in perfect competition market?

Ans:- In perfect competition market the goods are sold at the same price so AR=

MR and the TR increases at a constant rate.

17.Can there be Break- even point with AR = AC

Ans:- Yes there can be breakeven point with AR=AC


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PRODUCERS EQUILIBRIUM

Meaning:- It is the situation where producer get maximum profit.

Determination of producer Equilibrium

Two approaches

Total Revenue Marginal Revenue and

total Cost approach Marginal Cost approach

1. Total Revenue and Total Cost Approach

Equilibrium Conditions

Difference between Total Revenue (TR) and Total Cost (TC) is positively maximum.

Outputs

(Units)

TR TC Profit

0 0 30 -30

1 40 50 -10

2 70 60 10

3 90 70 20

4 100 90 10

5 100 120 -20

Diagram

2. Marginal Revenue and Marginal Cost Approach


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Conditions:-

1. MR=MC

2. At Equilibrium Point MC curve intersect to MR curve from below

Under perfect competition, a firm is in equilibrium in short-run when

following two conditions are fulfilled.(i) MR = MC(ii) MC cuts MR from below or MC is rising at the point of equilibrium. Fig.2 illustrates this situation.

Fig. 2

In diagram, MR = MC at two levels of output: . However, is not

equilibrium level of output. Corresponding to point there is point which, no doubt, indicates that MR = MC.

However, MC is not rising here, rather it is falling. Therefore, second condition is not fulfilled here. Clearly E is the

point where not only MR = MC, but MC is also rising. So Q is the equilibrium level of output.

In short-run, when a producer or firm is in equilibrium three situations are possible:

(i) SNP, (ii) NP, (iii) Minimum Loss.

(i) Super Normal Profit (SNP): Super normal profits occur to the firm when its AR > AC and both the conditions of

equilibrium are also met. Therefore, in this case AR > AC, MR = MC and MC cuts MR from below.


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Fig. 3

In Fig. 3 E is the point of equilibrium and corresponding to this Q is equilibrium level of output.

Here, AR is EQ, AC is FQ and clearly AR > AC.

per unit = AR AC

= EQ FQ = EF. Firm is producing GF output.

Total Super Normal Profit of the firm is GF EF = EFGP

(ii) Normal Profit: Normal profits occur when AR = AC and both the conditions of equilibrium are also met.

Fig. 4

In Fig. 4, E is the point of equilibrium, with normal profit.Here, AR = EQ, AC = EQ

per unit = AR AC

= 0 as AR = AC

Firm is in equilibrium when it produces OQ level of output and it is earning just normal profit.

Point E is also known as Break-even point as AR = AC or TR = TC. The firm is just recovering its costs.

Important

Normal profit is a part of total cost of the firm. It is equal to reward to the producer for his entrepreneural services.

This is included in the estimation of TC. Thus, when AR = AC and it generally refers to the absence of super

normal profit.(iii) Minimum Loss: A firm incurs loss when its AR < AC (or TR < TC) and still, the firm is in equilibrium.


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Fig. 5

In Fig. 5, firm is in equilibrium at point E where not only MR = MC, but MC is also rising. OQ is equilibrium output.

However, firm is incurring loss as:

AR = EQ

AC = FQ

Clearly, AR < AC, per unit Loss

= AR AC

= EQ FQ

= EF

Total Loss = Loss per unit of output Total output

= EF PE

= EFGP

Producer is in Equilibrium at Point E where both equilibrium conditions are satisfied.


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Questions

Q.1 What is meant by producers Equilibrium

Q.2 Explain the producer equilibrium by MR, MC method?

Market

Market: - Market refers to an arrangement that contact between the buyers and seller for

the sale and purchase of goods.

Types:

1. Perfect Competition Market:- Perfect Competition is a form of Market where

there are large number of buyers and sellers of a commodity and selling

homogeneous product.

Features:

1. Large Number of buyers and sellers

2. Homogenous product

3. Free entry free exit from Market

4. Perfect knowledge

5. Perfect Mobility

6. Zero transport cost

2. Monopoly Market: - There is single seller of a commodity which has no close

substitutes.

Features:

1. Single seller

2. Restricted entry3.No close substitutes

4. Full control

5. Price Discrimination

3. Monopolistic Competition:- This market situated where there are many seller of

the product, and selling differentiate product from each other.

Features:

1. Large Numbers of buyers and seller

2. Product Differentiation


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3. Freedom of entry and exit of firms

4. Selling cost is applicable

Oligopoly: - This is the situation of market there are few seller selling homogeneous

or differentiated products. Every seller influences by the behavior of other firms.

Features:-

1. Few firms

2. interdependence

3. no price competition

4. Group behavior

5. undetermined demand curve

Shapes of Curves AR, MR in different markets.

Perfect Competition

AR=MR


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Very short answer questions

1. Define perfect competition

Ans:- Perfect competition is a market with large number of buyers and sellers , selling

homogeneous product at same price.

2. Define monopoly.

Ans: Monopoly is a market situation dominated by a single seller who has full control

over the price.

3. Define monopolistic competition.

Ans:- It refers to a market situation in which many buyers and sellers selling

differentiated product and have partial control over the price.

4. Under which market form firm is a price maker?

Ans:- Perfect competition

5. What are selling cost?

Ans:- Cost incurred by a firm for the promotion of sale is known as selling cost.

6. What is oligopoly?

Ans:- Oligopoly is defined as a market structure in which there are few sellers of the

commodity.

7. In which market form is there product differentiation?

Ans:- Monopolistic competition market

8. What is product differentiation?

Ans: It means close substitutes offered by different producers to show their output

differ from other output available in the market. Differentiation can be in color, size

packing, brand name etc to attract buyers.

9. What do you mean by patent rights?

Ans:- Patent rights is an exclusive right or license granted to a company to produce a

particular output under a specific technology.

10.What is price discrimination?


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Ans: - It refers to charging of different prices from different consumers for different

units of the same product.

11.What do you mean by abnormal profits?

Ans:- It is a situation for the firm when TR > TC.

12.Why AR is equal to MR under perfect competition?

Ans:- AR is equal to MR under perfect competition because price is constant.

13.What are advertisement costs?

Ans:- Advertisement cost are the expenditure incurred by a firm for the promotion of its

sales such as publicity through TV , Radio , Newspaper , Magazine etc.

14.What is meant by normal profit?

Ans:- Normal profit is the minimum amount of profit which is required to keep an

entrepreneur in production in the long run.

15.What is break-even price?

ANs:-In a perfectly competitive market, breakeven price is the price at which a firm

earn normal profit (Price=AC). In the long run, Break- even price is that price where

P=AR=MC

Short Answer Questions: (3 / 4 Marks)

1. Explain any four characteristics of perfect competition market.

Ans:- i) Large number of buyers and sellers : The number of buyers and sellers are so

large in this market that no firm can influence the price.

ii) Homogeneous products: Products are uniform in nature. The products are perfect

substitute of each other. No seller can charge a higher price for the product. Otherwise

he will lose his customers.

iii) Perfect knowledge: Buyers as well as sellers have complete knowledge about the

product.

iv) Free entry and exit of firm: Under perfect competition any firm can enter or exit in

the market at any time. This ensures that the firms are neither earning abnormal profits

nor incurring abnormal losses.


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2. Explain briefly why a firm under perfect competition is a price taker not a price

maker?

Ans:- A firm under perfect competition is a price taker not a price maker because the

price is determined by the market forces of demand of supply. This price is known as

equilibrium price. All the firms in the industry have to sell their outputs at this

equilibrium price. The reason is that, number of firms under perfect competition is so

large. So no firm can influence the price by its supply. All firms produce homogeneous

product.

3. Distinguish between monopoly and perfect competition.

Ans:-

Perfect Competition Monopoly

Very large number of buyers and

sellers.

Single seller of the product.

Products are homogenous Product has no close substitute

Firm is the price taker and not a

maker

Firm is price maker not price

taker

Price is uniform in the market ie

price =AC

Due to price discrimination price

is not uniform.

Free entry and exit of firms. Very difficult entry of new

firms.

4. Which features of monopolistic competition are monopolistic in nature?

Industry

FirmD

D

S

S

E

P P AR/MR

y y

x

O

Output

XQO

Demand & Supp.


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Ans:- i) Product differentiation

ii) Control over price

i) Downward sloping demand curve

5. What are the reasons which give emergence to the monopoly market?

i) Patent Rights: Patent rights are the authority given by the government to a

particular firm to produce a particular product for a specific time period.

ii) Formation of Cartel: Cartel refers to a collective decision taken by a group of

firms to avoid outside competition and securing monopoly right.

iii)Government licensing: Government provides the license to a particular firm to

produce a particular commodity exclusively.

HOTS

1. Is abnormal profit possible in long-run for a monopoly firm? 1 Mark

Yes, because even in the long-run monopolist continues to have full control over price of theproduct and there is no possibility for the new firms to enter the market.

2. What is the difference between pure competition and perfect competition?

When there are large number of buyers and sellers and each seller sells homogeneousproduct at the same price and when there are no barriers to enter the industry and firms havefreedom to enter and exit the industry, pure competition is said to exist. However, when inaddition to all these, there is not only perfect knowledge of price and perfect mobility but alsoabsence of transport costs, perfect competition is said to exist.

3. Why a firm under perfect competition will not lower the price to increase itssales?

A perfect competitive firm will not lower the price because of the following reasons:(i) A firm under perfect competition can sell whatever amount it wishes to sell at the existingprice. So that there is no rationality of lowering the price.

(ii) An individual firm under perfect competition is such a small supplier in the market that bylowering the price, it cannot ever cater to the entire market demand for the commodity.Accordingly, reduction in price cannot be sustained by an individual firm.

4. What is monopolistic competition? Can a seller in such a market influence theprice? Explain.

Monoplistic competition is found in the industry where there is a large number of sellersselling differentiated product to a large number of buyers. There is freedom of entry and exitfor the firms. In such a market, a seller has a partial control over price through productdifferentiation. However, full control over price is not possible owing to the fact that there is alarge number of close substitutes in the market.

5. Is a firm under perfect competition a price maker or a price taker? Illustrate youranswer using a diagram.

A firm under perfect competition is a price taker and not a price maker. The price is


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determined by the industry so that the firm has to sell its product at the given price. It isowing to the following facts:(i) The number of the firms under perfect competition is so large or that each firm underperfect competition sells such a small fragment of the total output that (by varying its sales) itcannot impact price of the product in the market.(ii) All the firms in a perfectly competitive industry produce homogeneous product. Absenceof product differentiation means the absence of even partial control over price.(iii) Firm under perfect competition cannot take advantage of ignorance of the buyers, asbuyers are assumed to have perfect knowledge of the market conditions. Price variation (orprice control) is ruled out.Diagrammatic IllustrationThe following diagram, illustrates how a firm under perfect competition is a price taker not aprice maker.

The figure shows that firms demand curve (AR curve) is a horizontal straight line.

It can sell any amount of output at the prevailing price (OP). Price in themarket is determined by the forces of market supply and market demand. It will change only

when market demand or market supply changes. But, as we are aware, an individual firmunder perfect competition cannot impact market supply. This is because an individual firmcommands a very small segment of the market supply. It is so small that even a manifoldincrease/decrease in it would not make any difference to the total supply of the product in themarket. This is implied in the very definition of perfect competition. This renders a firm underperfect competition as a price taker.Note: If price control were possible, firms AR curve would no longer be a horizontal straightline. But perfect competition assumes the existence of only a horizontal straight line ARcurve for a firm. Implying that a firm under perfect competition is always a price taker.

PRICE DETERMINATION UNDER PERFECT COMPETITION

Price Determination:-

When quantity demanded is equal to the quantity supplied of a particular commodity.

Price (Rs) Quantity Demand Quantity Supply

1 10 6 Excess

2 9 7 Demand

3 8 D=S 8- Market Equilibrium

4 7 9 Excess

5 6 10 Supply


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S

S

E

D

OD / OS

D

X

Y

Excess Supply

Market equilibrium

Excess Demand

P

P

P

1

2

Price

Equilibrium Price:- The price at which the quantity demanded of a commodity is

equal to quantity supplied.

Effect on Equilibrium Price when

1. Change in demand

a) Increase in demand

Causes:-1. Increase in Income of a consumer of Normal

Goods2. Increase in Price of Substitute goods.3. Decrease in price of complimentary goods4. Rise in expected future price.

Effects:-

Equilibrium price and Quantity of demand and supply increase.1

b)Decrease in Demand

Causes:-

1. Decrease in Income of a consumer for normal goods.

2. Decrease in price of Substitute goods.

3. Increase in Price of Complimentary goods

4. Decrease in expected future price.

Effect:-

Price and Quantity both decrease

2. Change in Supply

a) Increase in supply

P

x

Y

P1

D1

D s

E1

E

O Q Q1

Mkt. D& Sup

D1

Price

P

x

Y

P1

D1

D

s

E

E1

O Q1 Q

Mkt. D& Sup


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Causes:-

1.No. of firms increase

2. Technology improvement

3. Decrease in input price

4. Decrease in indirect tax and rise in subsidy

5. Decrease in expected future price.

Effect:-

Equilibrium price decrease and equilibrium

Quantity increases

b)Decrease in supply

Causes:-

1.No. of firms decrease

2. Technology backwardness1

3. Increase in input price

4. Increase in indirect tax and rise in subsidy

5. Increase in expected future price.

Effects:-

Equilibrium price increases and Equilibrium Quantity decreases.

3. When both demand and supply changes simultaneous

A)Simultaneous increase in the demand and increase in supply and decrease in

supplya) Increase in demand is more than increase in supply.

DD and SS curves shift rightwards to DD1 and SS1

Effect:- Equilibrium price increase and equilibrium

quantity increases

D

E

P

x

y S

S1

Q Q1

Mkt D. S

E1

O

P1

D

E

P

x

y

S

S1

Q1 Q

Mkt D. S

E1

O

P1

S1

P1

P

D

D

x

Y

E1

E

Price


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b) Increase in demand is less than increase in supply

DD and SS curves shift rightward to D1D1 and S1S1

Effect:- Equilibrium price decreases and equilibrium

quantity increases.

c) Increase in Demand is equal to increase in supply

DD and SS curves shift rightward to D1D1 and S1S1

Effect:- Equilibrium price constant and equilibrium quantity increases.

B)Simultaneous decrease in the demand and decrease in supplya) Decrease in demand is less than decrease in supply.

DD and SS curves shift leftward to D1D1 and S1S1

Effect:- Equilibrium price increases

And equilibrium quantity decreases

b) Decreases in demand is more than decreases in supply


Effect:- Equilibrium price decreases and

Equilibrium quantity decreases.

D

X

Y

D1

S1

S

M M1O

P

P1

E

E1

Mkt.D & Sup.

D

D

E

X

S1

S

E1

D1

Q1Q

Price


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c) Decrease in Demand is equal to decrease in supply


Effect:- Equilibrium price remain constant and

Equilibrium Quantity decreases.

Questions

Q.1 What is meant by Equilibrium Price?

Q.2 What is meant by Equilibrium Quantity?

Q.3 When income of consumers increase what effects on eq. price?

Q.4 When price of factor production increase, What effect on eq. price?

Q. When demand and supply both increase simultaneously what effect on eq.

price?


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PART B-INTRODUCTORY MACRO ECONOMICS

Unit VI National Income and Aggregates

StockStock: - Quantity of an economic variable

which is measured at a particular point of

time.

Stock has no time dimension. Stock is

static concept.

FlowFlow: Flow is that quantity of an economic

variable, which is measured during the

period of time.

Flow has time dimension- like per hr, per day

etc.

Flow is a dynamic concept.

The variable is measured at a point of

time.

The variable is measured for a period of

time.

Stocks influences flow Flow influences stock

Stock is not represented as per unit time

period

Flow is represented as per unit time

period.

Population, Capital stock, Money

supply

National Income, saving rate,

Investment, change in money supply,

etc.

Consumer Goods

Those goods which are bought by

consumers as final or ultimate goods

to

satisfy their wants. Eg: Durable goods

car, television, radio etc.Non-durable goods and services like fruit,

oil, milk, vegetable etc.

Semi durable goods such as crockery etc.

Capital Goods

those final goods, which are used

and help in the process of

production of other goods and

services. E.g.: plant, machinery etc.

Gets used up by consumption for

deriving satisfaction in the ones or

several times.

Does not gets used up in production

These doesnt increase the production ofeconomy

These goods increase the productivity ofeconomy

Final use products used by consumers Final use product used by Producers for


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for direct use

E.g. car purchased by consumer for

personal use

indirect use.

E.g. car purchased by taxi driver for taxi

purpose

Final Goods

Final goods: Are those goods, which are

used either for final consumption or for

investment. It includes final consumer

goods and final production goods. They

are not meant for resale. So, no value is

added to these goods. Their value is

included in the national income.

Intermediate Goods

Intermediate goods intermediate goods

are those goods, which are used either

for resale or for further production .

Not include in National Income

estimates

The goods are not used as raw materials

during an accounting year.

E.g. bread &milk purchased/used by

consumers

The goods are used as raw materials

during an accounting year.

E.g. bread purchased to be used in

making breadpakoras &milk used in

making lassi at a restaurant

Resale of goods by firm for profit

making in an accounting year is not

possible.

Resale of goods by firm for profit

making is possible in an accounting

year.

Final goods are outside the production

boundry and ready for use by finalusers.

Intermediate goods in the production

boundry and not ready for use by finalusers.

Value addition not required in future. Value addition required in future.

Domestic Territory of a Country

It includes:

(i)Territory lying within the political frontiers, including territorial waters of the

country.


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(ii)Ships and aircraft operated by the resident of the country between two or more

countries.

(iii) Fishing vessels, oil and natural gas rigs and floating of platforms operated by

the residents of the country in the international waters or engaged in

extraction in areas in which the country has exclusive rights of exploitation.

(iv) Embassies, consulates and military establishment of the country located

abroad.

Domestic territory is much bigger than the political frontiers of a country.

It excludes:-

(i).Embassies, consulates and military establishment of a foreign country. For example

USA Embassies in India is a part of domestic territory of USA.

(ii). International Organization like UNO, WTO, WHO, IMF etc. Located within the

geographical region

Normal Residents of a Country

A normal Resident of a country is defined as a person who ordinarily resides in a

country and whose centre of interest (Economic interest) lies in that country. (It also

covers institution along with individuals). It includes national and non- nationals

residing in a country. Indians living in England are non-nationals of that country,

because they still hold Indian passports and Indian citizenship. However, they are the

normal residents of England because they have settled there and their economic interest

lies in that country.

International Organizations like the World Health Organisation, World Bank,

International Monetary Fund and International Labour Organisation are residents of an

international area, but not of the country in which they are located. The offices of these

organizations are also located in India. However, these are not normal residents of

India, but the Indian citizens working in these offices are the normal residents of India.

Residents households of a country cover all individual living within the domestic

territory of a country except the following:-

(i)Foreign visitors in the country for such purposes as recreation, holidays, medicalstreatment, study tours, conferences, sports- events etc.


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(ii)Crew members of foreign vessels, commercial travelers and seasonal workers

in the country.

(iii) Officials, diplomats and members of the armed forces of a foreign country.

(iv) Employees of international organization who are not the citizens of the

country in which the offices are located.

(v)Foreigners who are the employees of non- resident enterprises and who have

come to the country of purposes of installing machinery or equipment

purchased from within employees.

(vi) Individuals mentioned in (i), (ii), (iv) and (v) will be treated as foreigners in

case they stay for less than one year in the domestic territory of the given

country. It automatically means that if they stay for one year or more in that

country, they will be treated as the normal residents of that country.

Generally, individuals mentioned at (i) and (ii) above will go back to their

respective countries in less than one year (or sometimes) more. In later case,

they will be treated as the normal residents of the country where they are

employed or are living A Bangladeshi daily crossing border and working in

India and returning back in evening is a normal resident of Bangladesh.

Depreciation:- ( Capital Consumption allowance, Consumption of Fixed Capital,

Current replacement cost, ):- The value of capital goods decreases due to wear and tear

in use in production during an accounting year. It includes normal wear and tear,

foreseen obsolescence and accidental losses under use


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Reason of Depreciation :-

(i)Normal wear and Tear

(ii)Passage of time

(iii) Expected obsolescence (loss in the value of fixed assets due to change in

technology or demand for goods and services.

Depreciation Capital loss

i.Expected loss

ii. Normal wear and tear, passage of

time , expected obsolescence

i.Unexpected loss

ii. Unforeseen Contingencies such as

natural calamities, theft, accident etc

Gross Investment:- Gross addition to the stock of capital of a firm is called

Gross investment. It means addition to the total stock of capital of a firm when

the value of depreciation is not deducted from it.

Net Investment: - Net addition to the stock of capital of a firm is called Net

investment. It means addition to the total stock of capital of a firm after deduction of

Depreciation which gives more accurate value of available stock .

Circular flow of Income

Circular flow in a two sector economy.

The National Income of economy is generated as a flow of goods and services

produced, as a flow of Incomes, or as a flow of expenditures on goods and services

which form three phases of the continues flow generated by two sectors. Money flow

includes only financial transaction i.e. payments and receipts of money. The circular

flow of income relates with money flow.

Real flow includes flow of goods and factors services. Value of Goods produced is

equal to value of factor income generated in a 2 sector economy. The production sector

gives factor payment for employing factors which comes from consumption sector.

Expenditure on goods and Services

Consumption SectorProduction Sector Factor Pa ment


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Money Flow (2 Sector Economy)The factor income received by consumption Sector in spent on goods produced by

Production sector as expenditure on goods. Thus the factor income is spent on

disposition of goods and circular flow of Income continues from one sector to another.

Savings, taxes &imports are called leakages as they are reducing the flow in a foursector economy

Investment &exports are increasing the circular flow in a four sector economy these are

called injections.

Value Added Method (PRODUCT METHOD/inventory method/net output

method/industrial origin method/commodity service method)

It measures the contribution of each producing enterprises in the domestic territory of

the country.

Value added is the addition of value to the raw materials (intermediate goods) by a firm

with its productivities. It is the contribution of an enterprise to the current flow of goods

and services.

Gross Value added =

Gross value added (GDPMp) = Value of Output (Gross)Intermediate Consumption

Where:

Sales + change in stock = value of output

Change in stock = closing stock opening stock

Note: -GVAMP =GDPMP

For obtaining NNP Fc (N.I) we have:

NNP Fc (N.I) = GDPMp (-) consumption of fixed capital (depreciation)(+) Net factor income from abroad

( -) Net indirect tax.

Gross value addeddepreciation = Net Value Added

(Gross value of output includes) = Depreciation + sales + Increase in stock

GDP = GVA primary + GVA secondary + GVA tertiary

Intermediate consumption:_

Only the non factor inputs are included in intermediate consumption such as theexpenditure of raw materials, fuel, power, spare parts, etc. The non factor inputs

lose their indentity in the process of production.


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Precautions of Value Added Method:-

Included Excluded

i.)Production for self-consumption is

includedii.)Imputed value of owner occupied

houses should be included.

iii.)Change in stock of goods will be

included

i).Intermediate goods are not to be

included

ii).Sale and purchase of second hand

goods is not included

iii).Domestic services are not included

How to avoid double counting?

1. By using the final output method

2. By using the value added method

Income Method (Distributive Share Method/Factor Payment Method)

NDPFC = Compensation to employees + Operating surplus + Mixed income of selfemployed

Components of factor Income

1.Compensation ofEmployee( COE)

2.OperatingSurplus(OS)

3.Mixed Income(MI)

a. Wages and salariesin cash ex- wages,salaries, bonous,D.A., commissionetc.

b.Wages and salariesin kind ex-rent freehome, rent free car,free medical andeducational facilities

etcc.Employerscontribution to socialsecurity scheme ex-GPF, gratuity, labourwelfare funds,retirements pensionetc.

a).Income fromproperty ex-Rent,Royalty andInterest.

b.) Income fromentrepeneurship ex-Profiti.)Corporate Taxii.)Dividendundistributed profit

iii.)Retained Earning(Saving of Privatecorporate sector)

Income from own account workers likefarmers, barbers, and incorporated enterpriseslike retail traders, small shopkeeper.

NDP Fc = (1) + (2) + (3)

NNP Fc = NDP Fc (+) Net factor income from abroad (NFIA)

GNP Mp = NDP Fc + consumption of fixed capital + Net indirect tax

(Indirect tax subsidy)


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Precautions of Income Method-

Included Excluded

Imputed value of services of the owner ex-

interest own capital and production of self

consumption

1.Transfer income

2.Income of sell of second hand goods

3.Income from share and bonds4.Income from wind fall gain

5.Payment out of past savings

6.Indirect tax

Expenditure method:

1. Private final consumption expenditure (C)

2. Government final consumption expenditure. (G)

3 Gross domestic capital formation (Ig)

Where: (Gross Domestic fixed Capital formation+ Change in stock) =

(Ig includes Depreciation, Net Business investment expenditure, Net Residential

Building investment expenditure and Net Public investment expenditure and change in

stock)

Gross domestic capital formation It can also be calculatedas Gross Business fixed

Investment +Gross Residential Construction Investment+ Gross Public Investment +

Inventory Investment

4 . Net Export. (X-M)

GDP = C + Ig + G = (X-M)

GDPMp = (1) + (2) + (3) + (4)

NNP Fc = GDPMp - consumption of fixed capital + NFIA- Net indirect taxesEXPENDITURE METHOD:-

Included Excluded

1. Include on account production of fixedassets by all the producing sectors.

(2)Include purchase of new house by

consumer households.

Work in progress at the site of construction.

3. Include capital repairs like alteration of

new building.

1. Exclude second hand goods expenditure.2. Exclude Expenditure on old and new

shares and bonds as they are only paper

claims

3. Exclude all government expenditures on

transfer payments such as unemployment

benefits, old age pensions and scholarships as

no productive service rendered in return.

4. Exclude expenditure on all intermediate

goods and services to avoid double counting.


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Related Aggregates

Gross Domestic product at market price

It is the total market value of all final goods and services produced during an

accounting year with in the domestic territory of a country.

NATIONAL INCOME: -NNP FCis the sum total of factor income earned by normal

residents of a country during the accounting year

Gross National product at market price:

It is the total market value of all final goods and services produced by a country

during an accounting year including net factor income from abroad.

Net Factor Income from Abroad (NFIA): -

It is the difference between factor income received from the rest of the world and

factor income paid the rest of the world.

NFIA=Factor Income earned from abroad-Factor income paid abroad

Components of Net factor income from abroad

Net compensation of employees

Net income from property and entrepreneurship (other than retained earnings of

resident companies of abroad)

Net retained earnings of resident companies abroadFormulas

NNP Mp = GNPMp - depreciation

NDP Mp = GDPMp - depreciation

NDP Fc = NDPMp Net indirect taxes (indirect tax subsidiary)

GDP Fc = NDPFc + depreciation

NNP Fc = GDMp - depreciation + Net factor income from abroad Net

indirect taxes

NNP Fc = NDPFc + Net factor income from abroad.

Relation between national product and Domestic product.

Domestic product concept is based on the production units located within domestic (Economic)

territory, operated both by residents and non-residents.

National product concept based on resident and includes their contribution to production both

within and outside the economic territory.


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National product= Domestic product + Residents contribution to production outside the economic

territory (Factor income from abroad) - Non- resident contribution to production inside the economic

territory (Factor income to abroad)

NATIONAL INCOME AND WELFARE: - GDP is generally considered as an index of welfare but there

are at least the following reasons why this may not be correct1. Distribution of GDP : if GDP of a country rising welfare may not rise if rich becomes richer and

poor become poorer(GDP is not uniformly distributed)

2. Non Monetary exchanges: barter system is generally difficult to be counted in developing

countries which results in under estimation of GDP.

3. Externalities: pollution during production is not included in the GDP although it decreases the

welfare which results in over estimation of GDP.

4. Composition of goods : a diamond when produced is of crores of rupees and increases GDP

but welfare of one person increases while milk produced of same amount

Tremendously increases welfare of masses.

CALCULATION OF NATIONAL DISPOSABLE INCOME, PRIVATE INCOME, PERSONAL INCOME AND

PERSONAL DISPOSABLE INCOME

National Disposable

income

Private Income Personal Income

Includes factor income as well as

Transfer income (Earned income +

Unearned income)

It is the income from allthe sources (Earned

Income as well as transfer

payment from abroad)

available to resident of a

country for consumption.

Expenditure or saving

during a year.

NNPFC + Net Indirect tax +

Net current transfer from

abroad =Net Nationaldisposable income.

(Gross National

Disposable Income

includes depreciation)

Factor income from net domesticproduct accruing to private sector

includes income from enterprises

owned and controlled by the private

individual.

Excludes:-

1. Property and entrepreneurial

income of the Gov. departmental

enterprise

2. Savings of the Non-departmental

Enterprise.Factor Income from NDP Accruing to

private sector = NDPFC (-) income

from properly entrepreneurship

accruing to the govt departmental

Enterprises (-) savings of Non

departmental enterprises.

Private Income Includes

* Factor income from net domestic

product accruing to private sector.

+ Net factor income from abroad

+ Interest on National Debt

+ Current transfer from Govt.

+ Current transfer from rest of the

world.

PI is the income Actuallyreceived by the individuals

and households from all

sources in the form of factor

income and current transfers.

Personal income = Private

Income (-) corporation tax.

(-) Corporate Savings OR

Undistributed profits

Personal disposable income

Personal income (-) DirectPersonal tax (-) Miscellaneous

Receipts of the govt.

Administrative department

(fees and fines paid by house

hold.)


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MONEY

Meaning of Barter System:- The exchange of goods for goods without the use of

money

Drawbacks (Problems or difficulties) of Barter System

1. Lack of Double Coincidence:- It is very difficult to find out a person who wants

your commodity and you want his commodity.

2. Lack of Common measure of Value:- In barter system there are no common

measure of Value and proper accountings.

3. Lack of divisibility:- Many goods are not divisible, If somebody want to

exchange his cow for a pair of shoes, how can he divide his cow.

4. Difficult in deferred payments:- There is no stability in the process of the

goods, Quality of different units of good also does not remain the same.

Money

Meaning:- Money can be defined as a commodity which is accepted as a medium of

exchange and perform the function of measure of value and storage of value.

Functions:-

(A)Primary Function:-

1. Medium of Exchange:- Money helps us, buying and selling of goods. So money

became the representative of general purchasing power.

2. Measure of Value:- Money help, in measuring the exchange value of goods and

services. So money serve as a unit of value and money makes possible of keeping

accounts.

(B)Secondary Function3. Standard of deferred payments:- Deferred payment means, those payments

which are made in future.

4. Store of Value Under Barter system, storing of goods is very difficult. But

money has completely solved this problem Now, saving are done in terms of

money.

Money Supply:- Total Volume of money held by the public at a particular point of

time.


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R.B.I. has adopt four measures of money supply which are given

M1 = Currency notes and coins with the public + demand deposit of all

commercial bank + other deposit with RBI

M2 = M1 + Savings deposits with Post Office

M3 = M2 + Time deposit of all commercial banks

M4 = M3 + Total deposit with the Post Office

BANKING

Commercial Bank:- An Institution which perform the function of accepting deposit

from the public and making loans and advance to them to earn profit.

Function

1. Accepting Deposits :- Commercial banks accepts money from general public in

the form of different deposits

(i) Saving Banks Deposit Account

(ii) Current deposit account

(iii) Fixed deposit account

2. Advancing of Loans:- Loans and advances are given by commercial bank in the

form of (a) Cash Credit Limit (b) term loans (c) Demand loans (d) overdraft

facility.

3. Credit Creation:- Credit Creation means the Increase in bank deposit

Commercial banks expend their deposits by giving loans and advances.

4. Agency Function:-

(i) Transfer of Funds from one place to another by demand draft.(ii) Payments of bills on behalf of their customer.

5. General Utility Services:- (i) Locker facility (ii) Travelers Cheque (iii) Sale and

purchase of foreign exchange.

Central Bank:- A central bank is an apex institution which operates controls direct and

regulates the monetary and banking structure of a country.

Function

1. Bank of Issue:- Central Bank has the sole right for the issue of currency in the

country.


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2. Banker to the govt.:- As banker to the govt. the central bank makes and

receipt payments on behalf of the govt.

3. Bankers Bank:- Central bank acts as a baker to commercial bank in various

respects like keeps in cash reserve, clearing agreements facility etc.

4. Control of Credit:- Central bank controls the money supply and credit in the

economy.

5. Custodian of foreign exchange:- The Central Bank is the custodian of the

country stock of gold and foreign currencies.

6. Lender of the last resort:- Whenever Commercial bank face problems of their

depositors, the central bank helps them by advancing necessary credit.

Quantitative instruments of Credit Control

1. Bank Rate:- The rate at which the central bank of a country gives credit to the

commercial banks. For the reduce of money supply or credit contracted, central

bank increase in Bank rate and vice- versa.

2. Open Market Operations:- If refer to the purchase and sale of govt. securities

in the open market by the central bank. By selling of govt. securities, Central

Bank reduce the money supply. By buying govt. securities, the central bank

increase the money supply.

3 Legal Reserve Ratio: R.B.I. can influence the credit creation power of

commercial banks by making changes in CRR and SLR

Cash Reserve Ratio (CRR): It refers to the minimum percentage of net

demand and time deposits to be kept by commercial banks with central

bank.

Reserve Bank increases CRR during inflation and decreases the same

during deflation

Statutory Liquidity Ratio (SLR): It refers to minimum percentage of net

demand and time deposits which commercial banks required to maintain

with themselves.

SLR is increased during inflation or excess demand and decreased

during deflation or deficient demand.


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Let us practice

Define Money

Define Barter system

Explain any four drawbacks of the Barter system

State the main function of money

State the main function of central bank

State the main function of commercial bank

How the central bank control the money supply.

Define Central Bank.

Describe how money over comes the problems of barter system?

What are the measures of money supply?

What do you mean by High powered money?

Describe the process of money creation or credit creation by commercial banks.

Why only a fraction of deposits is kept as Cash Reserves?

Bring out the role of Central Bank as the controller of money supply or credit

Explain the various qualitative and quantitative instruments used by the centralbank in controlling the money supply during the times of a) excess

demand/inflation b) deficient demand/deflation.

1. Calculate the value money multiplier and the total deposit created if initial

deposit is of Rs. 500 crores and LRR is 10%.

Ans: Money multiplier = 1/LRR which is equal to 1/0.1=10

Initial deposit Rs. 500 crores

Total deposit = Initial deposit x money multiplier

= 500 x 10 = 5000 crores.

2. If total deposits created by commercial banks are Rs.12000, LRR is 25%

calculate initial deposit.

Ans: Money multiplier = 1/LRR = 1/.25 = 4

Initial deposit = Total deposit / money multiplier = 12000/4 = 3000


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Determination of Income, Employment and Output

Determination of equilibrium level of income:- Equilibrium level of income isdetermined by the Aggregate demand and Aggregate supply.Aggregate Demand = Aggregate Supply (AD=AS)

Aggregate Demand:- Total demand of goods and services in an accounting year orexpenditure incurred by an economy.

Aggregate Demand = C+I+G+X-M

Consumption:- Expenditure on all final goods and services.

C = f(Y)

C=Co + bY,

where: C=total consumption expenditureCo =autonomous consumption

b= marginal propensity to consume

Y= level of income

Investment = Expenditure on purchase of Intermediate goods as well produce good.

Investment are two types-

(A)Autonomous:- It is fixed not change as change in income.

Income(Y) Consumption (C)

0 5

10 10

20 15

30 20

40 25


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(B)Induced Investment:- Change as change in Income.

Aggregate Demand can be shown with the help of following schedule and diagram.

Income C I C+I

AD

0 5 10 15

10 10 10 20

20 15 10 25

30 20 10 30

40 25 10 35

50 30 10 40

Aggregate Supply:- Total Money value of all final goods and services produced in an

economy in an accounting year.

Aggregate Supply = C+S

Income C S

0 5 -5

10 10 0

20 15 5

30 20 10

40 25 15

50 30 20

Determination of Income, employment and output


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On E point Aggregate demand/ Aggregate supply

OQ is the level of income

Some Basic concepts

APC = Ratio between consumption and Income

APC = CY

APS = SY

APC = 1- APS

APS = 1- APC APC + APS = 1

MPC = Ratio between change in consumption and change in Income

APC = CYAPS = S

YMPC + MPS = 1

1MPC = MPS

1MPS = MPC

Multiplier

It is the ratio between change in Income and change in Investment.

K= Y K = 1____ = 1____I 1MPC MPS

Y = I xK

Excess Demand

Excess demand refers to situation when aggregate demand is in excess of Aggregate

supply at full employment level.

AD>AS at full employment level

It can be explained with following diagram-


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Deficient Demand

If AD is less than AS at th

economics (english) pdd

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